Bankruptcy

• Citation: Vol. 66 No. 4
• Publication year: 2015

Bankruptcy

John T. Laney III

Daniel Taylor

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Bankruptcy

by Hon. John T. Laney, III^* and Daniel Taylor^**

I. INTRODUCTION

This Article offers a review of recent bankruptcy-related opinions issued in 2014 by the United States Supreme Court and courts within the Eleventh Circuit.¹ The topics are varied, ranging from the jurisdiction of the bankruptcy courts to the ever-developing law arising from "lien stripping."

II. BANKRUPTCY JURISDICTION

In Executive Benefits Insurance Agency v. Arkison,² the United States Supreme Court clarified an issue that arose in the aftermath of its decision in Stern v. Marshall³ —how a bankruptcy court should proceed when a "Stern claim" is identified.⁴ The Court concluded that when faced with deciding a Stern claim the bankruptcy court may issue

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proposed findings of fact and conclusions of law for de novo review by the district court.⁵

The Court's decision in Arkison expanded on its decision in Stern. Under 28 U.S.C. § 157⁶ a bankruptcy court may enter final judgment on a claim in two circumstances-in "core" proceedings,⁷ and in "non-core"⁸ proceedings "with the consent of all the parties."⁹ In Stern, the Court held that even though a bankruptcy court was statutorily permitted to enter final judgment on core claims, Article III of the Constitution¹⁰ prohibits bankruptcy judges from entering final orders on certain claims that qualify as core.¹¹ At issue in Stern was whether a bankruptcy court could issue a final order on a common law counterclaim brought by the bankruptcy estate against a person filing a claim against the estate.¹² The Court held that even though 28 U.S.C. § 157(b)(2) designated such counter claims as core proceedings within the bankruptcy court's power to adjudicate, such claims were actually non-core claims required to be adjudicated by an Article III judge.¹³ Simply put, Stern made clear that some claims labeled as core by Congress may not be adjudicated by a bankruptcy court even though expressly authorized in 28 U.S.C. § 157(b)(2).¹⁴

However, the Court in Stern did not decide how a bankruptcy or district court should proceed when faced with a Stern claim.¹⁵ That was precisely the issue before the Court in Arkison. In Arkison, the Chapter 7 trustee brought a fraudulent transfer action against Executive Benefits, which had purchased certain assets from the debtor prior to the bankruptcy filing. The bankruptcy court entered summary judgment in favor of the trustee. On appeal, the United States District Court for the Western District of Washington conducted a de novo review and affirmed the bankruptcy court decision. While Arkison was on appeal to the United States Court of Appeals for the Ninth Circuit, the Supreme Court issued its Stern opinion. Executive Benefits argued that in light of the Stern decision, the bankruptcy court lacked authority to enter summary

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judgment.¹⁶ The Ninth Circuit held that under Stern, a bankruptcy court was not permitted "to enter final judgment on a fraudulent conveyance claim against a noncreditor unless the parties consent."¹⁷ The Ninth Circuit went on to find that Executive Benefits had impliedly consented to the bankruptcy court's jurisdiction, and therefore affirmed the decision of the district court.¹⁸

The Supreme Court affirmed the Ninth Circuit, but did so without addressing the issue of whether parties may consent to bankruptcy court jurisdiction to determine Stern claims.¹⁹ Instead, the Supreme Court relied on the severability provision of the Bankruptcy Amendments and Federal Judgeship Act of 1984²⁰ to close the so called "statutory gap"²¹ in § 157 created by the Stern decision.²² Section 157(b)(1) authorizes bankruptcy judges to "enter appropriate orders and judgments" on core claims.²³ However, § 157(c)(1) provides that a bankruptcy court determining non-core claims is to "'hear [the] proceeding,' and then submit proposed findings of fact and conclusions of law to the district court.'"²⁴ This supposedly created a "statutory gap" in § 157, whereby Stern claims fell under neither § 157(b)(1) nor § 157(c)(1).²⁵ The Court concluded that Stern claims are subject to § 157(c)(1), and therefore, a bankruptcy court may hear Stern claims and submit proposed findings of fact and conclusions of law to the district court for a de novo review.

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In Arkison, the bankruptcy court entered judgment in favor of the trustee without specifying whether it was acting pursuant to the core or non-core provisions of § 157. On appeal, the district court did not address whether there was a Stern problem, but it did conduct a de novo review of the bankruptcy court decision and issued an opinion affirming the bankruptcy court. The district court then separately entered judgment in favor of the trustee.²⁷ Thus, according to the Supreme Court, although the case did not proceed exactly in the fashion outlined in § 157(c)(1), Executive Benefits received the same treatment it would have if the case had proceeded in accordance with § 157(c)(1)—a de novo review by an Article III court.²⁸

III. EXEMPTIONS

A. Retirement Funds

The Bankruptcy Code²⁹ allows an individual debtor to exempt certain assets from the bankruptcy estate.³⁰ One such asset is "retirement funds."³¹ In Clark v. Rameker,³² the Supreme Court was presented with the issue of whether funds in an inherited individual retirement account (IRA) qualify within the meaning of 11 U.S.C. § 522(b)(3)(C)³³ as "retirement funds."³⁴ The Court unanimously held that funds held in an inherited IRA are not retirement funds within the meaning of the federal exemption statute.³⁵

In Clark, the petitioner, Heidi Heffron-Clark, inherited her mother's traditional IRA. At that point the traditional IRA was reclassified as an inherited IRA. Heffron-Clark chose to receive monthly distributions rather than withdraw the entire balance of the account. In October 2010, Heffron-Clark and her husband filed a Chapter 7 bankruptcy petition and listed the inherited IRA, then having a value of approximately $300,000, on the schedules and claimed its value as exempt under 11 U.S.C. § 522(b)(3)(C). The trustee objected to the claimed

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exemption, arguing that the funds in the inherited IRA were not retirement funds within the meaning of the statute.³⁶

The bankruptcy court agreed with the trustee and denied the exemption.³⁷ On appeal, the United States District Court for the Western District of Wisconsin reversed, reasoning that the exemption only covers an account containing funds that were "originally accumulated for retirement purposes."³⁸ The Seventh Circuit reversed, finding that an inherited IRA was not within the class of retirement funds covered by the exemption because it is a fund that is available for immediate consumption, rather than one designed solely for retirement purposes.³⁹ The Supreme Court, seeking to resolve a split of authority between the Seventh Circuit's holding in Clark and the United States Court of Appeals for the Fifth Circuit's holding in Chilton v. Moser (In re Chilton),⁴⁰ granted certiorari.⁴¹

The Supreme Court based its holding on the difference between the Internal Revenue Code's⁴² treatment of an inherited IRA and its treatment of a traditional or Roth IRA.⁴³ Both traditional and Roth IRAs offer tax advantages to encourage individuals to save for retirement.⁴⁴ However, both types of accounts are subject to a penalty if withdrawals are made before an accountholder reaches the age of fifty-nine and one half.⁴⁵ On the other hand, funds within an inherited IRA may be withdrawn at any time, without penalty, regardless of the account holder's age.⁴⁶ Moreover, an inheritor is prohibited from making contributions to an inherited IRA and "must either withdraw the entire balance in the account within five years . . . or take minimum distributions on an annual basis."⁴⁷

The Court held that § 522(b)(3)(C) requires that funds satisfy two conditions in order to be exempt: (1) the funds must be retirement funds; and (2) the funds must be held in an account that is exempt from

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taxation under one of the listed Internal Revenue Code sections.⁴⁸ Since the funds at issue in Clark were not retirement funds, they failed to satisfy the first element, and therefore, were not exempt under § 522(b)(3)(C).⁴⁹ It is also worth noting that Clark was a case decided under the federal exemption statute.⁵⁰ Thus, even though inherited IRAs are not exempt under the federal exemption statute, they may be exempt under specific state exemption statutes.⁵¹

B. Surcharging Exemptions

Under 11 U.S.C. § 105(a)⁵² a bankruptcy court "may issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of [the Bankruptcy Code]."⁵³ In the case of Law v. Siegel,⁵⁴ the Supreme Court was faced with the issue of whether § 105(a) gives a bankruptcy court the authority to surcharge a debtor's exemptions to cover administrative expenses incurred as a result of the debtor's misconduct.⁵⁵ In Siegel, the trustee sought to surcharge the debtor's exemption in his home to cover attorney fees incurred by the trustee for litigation that was the result of the debtor's fraudulent conduct.⁵⁶ The Court unanimously held that such a surcharge was not permitted under the Bankruptcy Code.⁵⁷ In its holding, the Court concluded that even though § 105(a) grants a bankruptcy court statutory authority to issue "'any order . . . appropriate to carry out the provisions"⁵⁸ of the Bankruptcy Code, such an order "may not contravene express provisions of the Bankruptcy Code."⁵⁹

The debtor's misdeeds in Siegel were extraordinary. In 2004 the debtor, Stephen Law, filed a Chapter 7 bankruptcy petition, and Alfred Siegel was appointed trustee. On his schedules the debtor listed the

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value of his home as $363,348 and claimed $75,000 as exempt under California's homestead exemption. He listed the home as being encumbered by two liens: (1) a note and deed of trust for...